The Chancellor George Osborne has much to consider ahead of the Autumn Statement next Wednesday. Crucially, it looks likely the Office for Budget Responsibility will tell him he will miss his net debt target on unchanged policies. In a Centre For Policy Studies briefing note, Ryan Bourne and Tim Knox provide some advice for the Chancellor with 16 Recommendations.
These are based on four principles:
- That the Chancellor must be open and transparent about our economic plight (and not attempt to use accounting to cover a failure to hit the debt target)
- That the debt target in itself has little economic rationale, but it is essential the Government is seen, through action, to be attempting to reduce our debt burden in the medium term
- That tax simplification is the economic dog that hasn’t barked
- That there must be no more sweeties or gimmicky tax measures
Our calculations suggest that debt in 2015/16 will be between £20-30 billion higher than the amount necessary for debt to be on a downward path by the end of that financial year. Many have claimed that abandonment of the supplementary debt target in the Autumn Statement would lead to an adverse reaction in the bond markets. We do not believe this to be the case, as most will already have factored in that the rule will not be met. However, continued favourable market conditions should not be taken for granted. What’s required is evidence that the Government is taking active steps to put us on a sustainable debt path.
Recommendations for debt and government spending: In the Autumn Statement, the Government should acknowledge that further spending restraint is going to be necessary. It should not, however, react to any failure to meet the debt rule with rash, ill-thought-through spending or tax announcements, or accounting tricks to conceal it. Instead, the Chancellor should set out the necessity for and scope of the next Spending Review, which should set out a path to reducing the spending-to-GDP ratio to 38% within four years (the average tax-to-GDP ratio since 2000/01). This should include a thorough review of eligibility for government transfers, both for working age and retirement benefits, and education and health services.
Recommendations for immediate spending restraint, if necessary: The simplest way for the Chancellor to save money in the shorter-term is to implement cash freezes to several spending streams. For example, given the large increases last year, the Chancellor could freeze all benefits which would usually be increased by the September CPI inflation rate for one year, except for the state pension. He could freeze spending on aid, and abandon the 0.7% of GDP target which has no economic rationale. Finally, the Chancellor should set a clear framework and guidelines for how pay freezes should work in the public sector, given many departments have interpreted the existing freeze very differently.
Recommendations for the tax system: the Chancellor was right to recently state that the tax burden should not be added to, and as such he should avoid introducing new punitive wealth taxes or council tax bands. There is scope, however, to embark on a revenue neutral tax reform programme according to the principles of broadening bases and lowering marginal rates, starting with the full merging of income tax and employees’ National Insurance into a single income tax rate (with employers’ National Insurance replaced with a simple payroll tax). He should also reduce the main rate of Capital Gains Tax, as previous CPS research showed this is now above the revenue maximising level. Finally, he should begin reforming the higher rate pension tax relief system, in line with Michael Johnson’s recent recommendations.
Recommendations for the supply-side of the economy: the Chancellor should abandon the unilateral carbon price floor planned for 2013, go further in deregulating small businesses and employment law, roll out a framework for ‘sunset clauses’ for new regulations, put forward a new Consolidated Act which rationalises all the 100+ Statutes that impact on planning and development and, in line with Nick Clegg’s recent speech, lay out a framework for new Garden City developments.
Ryan Bourne, Head of Economic Research at the Centre for Policy Studies said:
“What’s become clear since the 2010 Emergency Budget and Comprehensive Spending Review is that assumptions about the potential underlying growth of the economy and the strength of tax revenues have been over-optimistic. It is now likely the Government will miss its net debt target on unchanged policies. The particular rule in itself is relatively unimportant. What really matters is that the Coalition remains committed to getting our debt burden on a downward path. In the short term, spending on benefits, aid and public sector pay can all be frozen. But it’s increasingly obvious that a further spending review is necessary, and this should go further in looking at the scope of government activity, including eligibility for government transfers. The coming demographic squeeze makes this all the more pressing.”
Tim Knox, Director of the Centre for Policy Studies said:
“The Chancellor has a choice: will he put the long-term economic health of the country above the temptations of short-term political gain? If he tweaks the numbers to meet his rules and if he announces a wide range of policy initiatives which might grab a few headlines, then we will know that this is a Statement inspired more by politics than economics. What would be preferable is the recognition that the current fiscal pressures and long-term demographic trends require a great reduction in government activity and coherent simplification of our dysfunctional tax system.”